On the eve of a court challenge by residents opposing the Huntlee New Town project near Branxton, Ms Keneally and the developer of the $1.8 billion complex have conceded the minister's approval of the concept plan and a rezoning application breached planning laws.

Unlawful act .... Kristina Keneally.Credit:Michel O'Sullivan

Her concession sounds the death knell for a project the planning department had ranked last of 91 potential housing development sites in the Lower Hunter, and which was approved only after the Labor Party donor behind it hired the lobbyist and former Labor minister Graham Richardson.

On Thursday the department wrote to lawyers acting for the Sweetwater Action Group, which represents opponents of the project, conceding ''the minister took into account irrelevant considerations'' when approving Huntlee, that ''there was a reasonable apprehension of bias on the part of the minister'' when granting approval and that the approvals "should be quashed".

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The letter, obtained by the Herald, was sent four days before a court case due to begin today and says the department and the developer, Huntlee Holdings, will agree to the court making orders to stop the building of homes for 20,000 people.

Revelations that the Government acted unlawfully comes on the day the upper house inquiry into planning will resume.

Huntlee was conceived and backed by one of the biggest donors to the NSW Labor Party, Duncan Hardie's Hardie Holdings, a part owner of the project.

Ms Keneally's admission appears certain to unravel a host of agreements for other new estates in the Lower Hunter, which the Government wants to take an extra 160,000 people by 2031. Others under threat include developments with Hardie Holdings for Sanctuary Villages, near Cessnock, and with Coal & Allied for Catherine Hill Bay and Gwandalan, and nearby sites at Minmi, Link Road, North and South Stockrington and Black Hill.

Once the court approves the orders, the Huntlee land will revert to rural zoning. Approval for a new development would require the Government again to declare it a state significant site.

In rezoning the land in January and approving the concept plan a month later, Ms Keneally breached the law because her predecessor, Frank Sartor, had signed a separate land-swap memorandum of understanding under which Huntlee would give almost 5900 hectares of its conservation land to the state as part of the project approval.

In August, the Land and Environment Court's Justice David Lloyd, said such land-swap deals were ''land bribes'' when he overturned planning approval for another big Labor donor, Rose Group, to build 600 houses at Catherine Hill Bay.

Justice Lloyd said that deal, under which Rose Group gave the Government conservation land, meant the minister might have appeared biased when approving the project.

Electoral Funding Authority records show that in the four years to the election last year, companies associated with Duncan Hardie donated $174,600 to NSW Labor and Rose Group, gave $143,500.

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A spokesman for Ms Keneally said the Government did not comment on court cases.